Chapter 4R, Problem 18MCQ

To determine

The output gap when there is an inflationary gap.

Explanation of Solution

An inflationary gap causes a positive output gap as it is the difference between actual output and potential output in the economy and during an inflationary gap, the actual output is greater than the potential output.

Graphically,

  

Hence, option ‘a’ is the correct option.

In the case of an inflationary gap, the real GDP exceeds the potential GDP therefore there can never be a negative output gap or a zero-output gap. Therefore, options (b) and (c ) are incorrect.

Whether the output gap due to the inflationary gap is increasing or decreasing cannot be ascertained. It may increase or decrease depending on the steps government takes. Therefore, options (d) and (e ) are incorrect.